This guide explains what definitive purchase agreements are. Here we will examine the role of a definitive purchase agreement in M&A deals. Here are some key takeaways about definitive purchase agreements:
A definitive purchase agreement in mergers and acquisitions is a legally binding contract that outlines the details of the M&A transaction. It will typically include information on the terms of the transaction, such as the price being paid for the assets or shares being acquired, any warranties or indemnifications requested by either party, any restrictions on transfer of ownership, any special tax considerations and the specific timeline associated with completing the transaction.
The definitive purchase agreement also provides protection to both parties by ensuring that all necessary conditions are met before closing occurs. Sometimes definitive purchase agreements are also called “share purchase agreements,” "asset purchase agreements,"or “definitive merger agreements”.
The definitive purchase agreement is quite detailed and should be carefully reviewed and negotiated by both parties involved in the transaction. It is important to ensure that both sides understand all of the provisions outlined in the definitive purchase agreement and its implications for each party. The definitive purchase agreement should also include provisions that address potential problems which may arise during or after completion of the transaction, such as disputes related to financial statements, property issues or liabilities assumed.
The definitive purchase agreement also includes a list of representations from both parties about their respective businesses and their ability to complete the transaction according to agreed-upon terms. Additionally, any disclosures made prior to signing must be consistent with what is included in the definitive purchase agreement; failure to disclose certain information could result in either party having claims against one another if an issue arises related to something not disclosed at signing.
It is important for both sides in a merger or acquisition transaction to have experienced legal counsel review and negotiate all aspects of a definitive purchase agreement prior to its execution; this will help ensure that all possible risks are considered while still allowing each side to get what they need from their respective transactions. Further, it is critical that each party fully understands its obligations under a definitive purchase agreement so there are no surprises down the road for either side.
Generally, there are two types of definitive purchase agreements in M&A—Share Purchase Agreements, and Asset Purchase Agreements.
A share purchase agreement (SPA) is a legal contract used in mergers and acquisitions that details the terms of the sale of shares from one party to another.
An asset purchase agreement is a contractual document used to transfer ownership of assets from one party to another as part of a merger or acquisition. Typically, an asset purchase agreement outlines the specific nature of the assets being transferred, the responsibilities and liabilities assumed by each party, and any other details that must be addressed for the transaction to be completed.
Whether the definitive purchase agreement is structured as a share purchase agreement or an asset purchase agreement, depends on how the deal is structured. To learn more about the distinction, we recommend our guide: Asset Purchase vs Stock Purchase.
Additionally, definitive purchase agreements can be called definitive merger agreements in specific cases of mergers.
#1 Definition of Key Terms
The definitive purchase agreement will contain a section that outlines the definitions of all key terms used in the document. This is necessary to ensure that both parties involved in the agreement are on the same page and have complete understanding of each other's expectations. The buyer and seller will be referred to as "the Parties", while the closing date will indicate when a transaction is finalized, with all funds and documents exchanged between the Parties. Furthermore, it is important for each party to fully comprehend any financial obligations each must meet throughout the term of this definitive purchase agreement.
For example, if the definitive purchase agreement states that one or both parties must contribute a certain amount of capital to complete the transaction, this must be explicitly stated in order for it to be enforced under law. Additionally, if there are any provisions such as warranties or representations from either side during this transaction, these should also be clearly stated in order for them to be legally enforceable agreements between the buyer and seller.
#2 Purchase Consideration
Purchase consideration is the total amount the buyer agrees to pay to the seller in exchange for their business or assets. It can include a variety of elements such as an upfront payment, financing from a third party, earnouts (future payments based on certain conditions after closing), and escrow deposits for assurance that all terms and conditions in the definitive purchase agreement are met. The purchase consideration will also detail any adjustments needed to be made to the price at closing, as well as outlines for when payments are due after the final date of closing. To ensure fairness between both parties throughout this process, it's important that timelines are clearly outlined in the definitive purchase agreement and that an earnest money deposit is made into an escrow account. This earnest money serves to encourage good faith between buyer and seller while ensuring fair market value is being paid. Additionally, purchase consideration should account for any working capital necessary at time of closing which may also be stated in definitive purchase agreement. All these variables must be taken into account when negotiating a definitive purchase agreement to make sure both parties receive fair market value and the agreement is mutually beneficial.
#3 Representations and Warranties
In this section, the definitive purchase agreement outlines that both the buyer and seller need to make factual statements that are referred to as “representations” and then “warrant” that the information is true. Also known as “Representations and Warranties," this component of the definitive purchase agreement is one of its most important parts.
The aim of the buyer here is to attain comprehensive representations and warranties from the seller in order to gain valuable insights into what they are paying for. In contrast, the goal of the seller is to limit the reps and warranties given in this definitive purchase agreement.
A typical warranty for definitive purchase agreements includes statements from the seller that indicate their compliance with various government regulations, Worker’s Compensation Act requirements, intellectual property laws, and other legal stipulations.